Did you know 22 percent of the international investments in real estate took place in Florida in 2017 (NAR)? This makes Florida the top state for foreign nationals to buy real estate as an investment. When they decide to sell, foreign sellers of real property are subject to income withholding on the sale of the property. To ensure that foreign nationals are held accountable, the Foreign Investor in Real Property Act (FIRPTA) authorizes the US to collect taxes on US property foreign nationals own when they sell it.
What is FIRPTA?
Back in the 1970s, there were a lot of foreign nationals coming to the US to buy real estate. The tax laws at that time contained loopholes allowing foreign sellers of real property to avoid paying tax on the income generated on their gains while US real property sellers had to pay taxes owed on their own gains.
Established in 1980, FIRPTA is a way to guarantee foreign real property sellers to be held accountable for the income taxes owed on property sold in the United States. In a nutshell, it is a way for the IRS to collect income tax generated from the sale of real property.
With FIRPTA, a certain percentage of the sale price is held back at closing for the buyer to submit to the IRS. It is applied towards any US income liability incurred by foreign sellers of real property as a prepayment of sorts. Once the transaction is completed, the foreign seller is required to file an income tax return for the transaction; however, if the seller leaves the country and does not file a tax return in the US, the tax has already been collected. FIRPTA protects the buyer because if this is not handled at closing (meaning if the percentage is not held back), the buyer is then held accountable for that tax liability.
How Does FIRPTA Work?
When a foreign national sells his real property, the closing agent withholds a predetermined percentage as a deposit to be applied to their US income tax return. This amount is paid to the IRS within 20 days of the transaction closing. Once the foreign seller files his income tax return in the US, the amount already submitted to the IRS is applied to the return. If the actual tax is less than the amount already paid, the seller receives a refund; however, on the flip side, if he owes more, he is required to send the balance due to the IRS.
Are There Exceptions to FIRPTA?
One exception to FIRPTA deals with sales of less than $300,000 AND where the buyer intends to use the house as a personal residence. If the buyer lives there at least 50 percent of the time it is occupied during the 24 months following closing, no withholding is required. The buyer must sign an affidavit to this effect under penalties of perjury. It should be noted that the seller still must file a US income tax return paying all applicable taxes.
In addition to exceptions, there are cases where the amount may be reduced from 15 to 10 percent. This may happen with properties sold by foreign sellers are over $300,000, but below $1 million AND the buyer occupies the property at least 50 percent of the time is occupied. The same rules apply in terms of signing an affidavit.
What is a Withholding Certificate?
No one wants to sell real property at a loss, but it does happen. If a property sells for a loss or if the actual tax is significantly less than the 15 percent to be held back, a foreign seller may apply for a withholding certificate. It allows the FIRPTA reduction to go from 15 to 10 percent of the sale price.
While there are many considerations to obtaining a withholding certificate, there is a basic process to understanding how it works. To get a withholding certificate, a foreign seller must apply to the IRS showing the sale results in a lower tax burden. It is important to know that the IRS may take up to 90 days to issue a certificate. If closing takes place before the certificate is issued, a closing agent must still deduct the 15 percent; however, it is held in escrow until the withholding certificate is issued. The closing agent submits the reduced amount to the IRS then returns the balance (if there is one) to the seller.
When buying luxury Florida real estate, there are important considerations to understanding FIRPTA and how the entire process works. It is always best and recommended by any licensed REALTOR® that foreign sellers of real property speak with a certified public accountant well-versed in dealing with FIRPTA to explain the law and its process as well as ensure everything is followed to the letter of the law.